Thursday, August 16, 2007

Reagbushonomics Essay 3- The Fallacy of the Laffer Curve

Deficits must be paid for one way or another. Some third world countries have the bad habit of simply printing more money, creating inflation. However, debtor nations have wisened up to that tactic and loan in dollars or a more stable currency and require payment back into that currency. The U.S. dollar has for many years been a primary international currency that funds nation-states.

In the United States, the way deficits are handled is to finance them through U.S. treasury bonds and other government issued investment vehicles. This method of finance in fact dismantles the logical fallacy that is the laffer curve. The laffer curve is at the center of the basic philosophy of what Reagan was hoping to accomplish. By lowering taxes, especially taxes in higher income brackets where there is a high degree of investment vrs consumption, the assumption was that there would be an influx of capital into the marketplace, fueling growth that would bring down unemployment and increase tax revenues. However, when you look at the basic calculation behind this logic, it doesn’t make sense.

Let’s say on average, the income tax reduction went to 40% investment and 60% consumption. So for every $10 dollars of income tax relief, $4 went into the capital markets. However, for every dollar of deficit you run up, 100% of that money comes from the capital markets, resulting in a net decrease of $6 from the capital markets. The results of this was a predicament during the Reagan administration, that real interest rates (interest rates less the inflation rate) actually increased. When real interest rates are high, it has a negative affect on the net present value of all future returns on investments ROI. It also requires business to shy away from long-term investments in favor of short term.

The results in the 1980 capital markets was a foregone conclusion. Welcome to the era of junkbonds, and leveraged buyouts. A focus on existing assets rather than investment in future assets hurt the economy of the Reagan years and that lack of investment in plant and material in many industries resulted in a serious decline in the manufacturing sector in the United States and a significant realignment and displacement of the U.S. economy. Luckily for the U.S., we were bailed out by a technological revolution and the creation of many new products. However, the manufacture of U.S. created products began in the Reagan years, and continues today, to be overseas. The day of the good paying manufacturing job was virtually at an end, compliments of “Voodoo Economics.”

In the next essay, I will address some other by-products of Reagbushonomics and how it impacted income distribution in the U.S. and address the unintended Keynesian aspects of Reagbushonomics.


just-commenting said...

(I don't know why the computer linked this to the economic article, but is really in response to your Gonzales comments.)

I must agree with your assessment of Gonzales and the entire situation surrounding this sorry mess. I also have to admit that I (very reluctantly) held my nose and voted for Bush, being totally unable to stomach Al Gore or John Kerry. It is a sad commentary on the state of politics in our country that we come an election with our only choice being sleazy, dishonest, and opportunistic arrogance on one side, versus irrational, red-necked, stupidity with total disregard for principle and inability to reason things out on the other hand. This means that in the past two elections we have had no choice at all.

People my age reflect fondly on the days of Truman and Eisenhower, when we most of us had relative confidence in the generally good intentions of many of the people in government. Even though his political rise was under a corrupt political machine, once Truman became president, he seemed to be motivated by only one overarching purpose - the good of the nation. Eisenhower was similarly a genuinely good person, and the country prospered in peace. Kennedy, despite his personal moral failings, advanced human rights and forced us to be aware of those less fortunate than ourselves. Johnson and Nixon may have initiated part of our downward spiral that has now spun out of control, and Ford and Carter were two wonderfully good people, albeit of questionable competence. Now we have entered the modern era where most of us feel a sense of hopeless despair that either party is structured or controlled by anyone who can give us any confidence that things will get much better.

I personally hope for a face-off in the final election between Romney and Obama. Then I would feel that we can choose between two basically decent and competent people with different political philosophies that would give us a real choice. I would be surprised to see intentionally illegal or consistent stupidity coming from either of them.

Obi wan liberali said...

Hello j.c.

What really concerns me about the Bush administration is what I consider to be a blatant abuse of power. The dangers this precedent establishes for our Republic, if left unchallenged, is very serious.

I agree that Obama and Romney would make an interesting contest. I have my doubts about Romney because he seems to tailor his message to whomever's vote he is after. I really don't know for sure what he's about.

Obama obviously has a lot to offer and is also very intelligent. I only wonder whether his relative lack of experience would create difficulties for him while in office. However, given who he would succeed in the White House, I have great difficulty thinking he could possibly do worse.

just-commenting said...

Obama could not possibly do worse, and lacking the desensitization toward decency that seems to come from experince in Washington may be a real advantage. His intelligence is obvious, and his lack of experience just might give us some hope for something other than "business as usual."

Bush is indeed a disaster. I think that the whole mess started out with a sense of wanting to do the right thing for our country in the wake of the terrorist attack on the WTC. Unfortunately, what I see now is a blindly irrational commitment to a course that cannot succeed, accompanied by the inability to see the evil (perhaps as an atheist, you eschew the use of that word) in the practices of the current administration.

I agree that Romney is a hard read, because he isn't a committed idealogue. He has performed capably in a number of situations, and his non-fanatical pragmatism might be a welcome change to the current sad state of affairs. I think that it was the same pragmatic approach to observing which way the wind blows that made Bill Clinton as successful as he was.